Zhuo Rui is growing strongly, and inventory is expected to be reasonable. By product, Zhuorui's growth momentum is strong; we expect Starship's sales to continue to decline year on year, mainly due to the company's main products changing from 700g to 900g packaging during the digitization process, and the channel still needs time to adapt; overall, Zhuorui's share continues to increase, in line with the company's product plan. The company strictly controls channel inventory. It is expected that the current overall channel inventory of the company's products will remain at a reasonable level, which is conducive to 24 young clothing entering the market. In addition, the company actively promoted customer marketing activities and organized face-to-face seminars, including mother's love seminars, carnivals and road shows. By the end of June '23, the company had held about 480,000 face-to-face seminars, which had acquired more than 1.12 million new customers, and the marketing activities were very effective.

The year-on-year decline in the number of births narrowed, and demand for infant formula simultaneously benefited. According to the National Bureau of Statistics, the number of births in China in 2023 was 9.02 million, down 5.7% year on year. The year-on-year decline was narrower than in 2020-2022, which means that the infant formula market is shrinking at a slower rate. On the other hand, considering 2024 is the Year of the Dragon, the birth population data may have picked up, further supporting infant formula consumption.

Domestic substitution continued, and the company's share increased. The company advocates a strategy to seize the share of foreign brands to expand the market, and its market share has continued to increase in recent years. In the context of the release of new national standards and increasing consumer trust in domestic milk powder brands, the market share of imported milk powder brands has gradually been encroached upon by domestic brands. For example, the share of Feiheying formula increased from 11.9% in 2019 to nearly 20% in 22H1. It is expected that under the domestic substitution trend, the share of domestic milk powder brands will further increase in 24, and the company will benefit as one of the leading brands. In addition, among major domestic milk powder brands, the net interest rate of the company's infant formula business is also at the forefront, mainly benefiting from refined management models and large-scale effects.

According to the company's semi-annual report, revenue and gross profit margins were lowered, and expense ratios were raised. The company's earnings per share for 23-25 were 0.50, 0.54, and 0.57 yuan, respectively (the original forecast was 0.70 and 0.79 yuan for 23-24). Using the FCFF valuation method, we calculated the value of the company's equity at $40.5 billion, calculated at the HKD/RMB exchange rate of 0.91, corresponding to the target price of HK$4.90, maintaining the purchase rating.

Risk warning

The improvement in the number of newborns falls short of expectations, the expansion of new markets falls short of expectations, the growth of new categories falls short of expectations, and the risk of rising raw material prices.